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Vanguard's Best Bear Market Mutual Funds

Balance, diversification, and sobriety have helped these funds hold up well in rough times.

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The increased market volatility in recent months as well as Vanguard's announcement that it will launch a market-neutral fund for institutional investors before the end of the year got me thinking (a dangerous development, to be sure). Are any of Vanguard's funds any good at reducing volatility without sacrificing the potential for capital appreciation like a market-neutral fund is supposed to do? And if market-neutral funds are such a great idea, does the typical Vanguard investor need one in his or her portfolio?

To answer these questions I looked at the bear market ranks of Vanguard funds, as well as measures of their volatility, such as standard deviation. I also checked how the funds have held up relative to their peers during the tumultuous third quarter. I found that quite a few Vanguard funds looked good according to the bear market ranking (which gauges how funds have done in down markets over the past five years), so the answer to the first question is a resounding yes. That also answers the second question. With so many options with long histories of minimizing market risk while delivering some capital appreciation, most Vanguard investors could live long and happy lives without a market-neutral fund. I've highlighted below what I think are the best Vanguard funds for a bear market. Granted, they don't use the sophisticated strategies of a market-neutral fund, but they've delivered pretty good downside protection and absolute returns at less than half the projected cost of the proposed Vanguard Market Neutral Fund.

A caveat: I'm not predicting that the end is nigh (I'll leave that to Jeremy Grantham) or urging you to dump all your holdings and buy one of these funds. I still believe that the best safeguard against a bear market is to be a long-term investor with a sound long-term plan. But if the recent undulations have been giving you panic attacks in the shower or causing you to check out the return prospects of shoeboxes and mattresses, it may be time to re-evaluate your risk profile and perhaps consider funds like these.

Dan Culloton does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.